Rodney Dickens thinks the risk of a hard landing in China is real this year. Your view?

The long, long signalled Chinese housing collapse may finally be underway.

Some people have been barking up this tree so long they have got tired and stopped barking.

The earliest record we have of someone predicting a collapse in the Chinese housing market was April 2009 when a Chinese professor predicted that property prices would half over the next two years.

In 2010 and 2011 more commentators joined the ranks of China doomsayers.

The following links are to a selection of related articles from mainly reputable sources as opposed to conspiracy theorists, including some that document the scale of speculative apartment and mega-city building.

The earliest stories are first. I checked that the first several links were still working, but I can’t guarantee that they are all still live. The words in the links give an indication of what the articles cover.

Related Topics

Reflecting the Chinese way of dealing with a problem, here is a story about the government stopping publishing a house price index that was adding to the negative press on house prices. It also highlights concern about the quality of Chinese economic data more generally.

Last year the government responded to the challenge of unaffordable housing by planning to build lots more affordable dwellings, which may have delayed the unfolding downturn.

This link is to a YouTube video on ghost cities in China that starts with the announcement that China has surpassed the US in manufacturing sales. This is definitely worth a look.

This link presents a comprehensive view on why China is heading for a hand landing.

The links above only take us from mid-2010 to mid-2011, with lots more doomsayer articles since then.

The lesson is that housing bubbles take much longer to burst than seems sensible

In my considerable experience of analysing property market bubbles, a key lesson is that the boom phase goes on for much longer than seems reasonable.

In New Zealand this was the case with the commercial property bubble prior to the 1987 share market crash, the Auckland apartment market bubble in the 2000s, the coastal property market bubble in the 2000s and more generally with the national housing and section market bubbles last decade.

This is because gullible investors keep pilling in when smart investors are starting to take profits.

This has been the case more so in China than was the case in NZ because Chinese have limited investment options and limited experience with investment bubbles.

A story in the New York Times last year about Chinese investors camping in tents to get into the queue for presales of condominiums. But having held off joining the doomsayers, the time now looks ripe for ringing warning bells about a housing downturn in China delivering a “hard landing” for the economy.

On some measures things still seem fine on the Chinese residential building front. The Chinese National Bureau of Statistics reported recently that real estate investment in the March quarter was up 23.5% on a year ago in dollar terms.

But this is a classic example of developers rushing to finish buildings because of concern about falling sales.

This link is to a good article by a Chinese professor that puts the last housing market data and the behaviour of developers in perspective.

The worry is that sales of new residential buildings, measured by floor space sold in the left chart, have fallen significantly over the last several months, although it may not be going into free fall with March delivering some improvement. And while building activity is still growing the floor area of residential buildings started has also fallen significantly over the last several months, as shown in the right chart, although the fall has been reserved somewhat in the last couple of months.

The sheer scale of the numbers is staggering (e.g. at the peak over 150,000,000 sqm of floor area started per month).

The charts show how much higher the floor area of building started has been relative to the floor area sold since 2009.

On average since January 2009 11,470,000 sqm has started construction each month while 8,569,000 sqm has sold per month. We assume these data are on a comparable basis. This means starts have been running 34% ahead of sales each month on average for over three years, which fits with there being reported to be something like 64m vacant new apartments.

China is a bit of a mystery but if it follows the normal experience after massive and sustained speculative bubbles in residential building activity the level of building activity will fall back to around previous trough levels.

In the context of the floor area of residential building started this implies a fall to around 6,000,000 sqm per month from the peak of over 15,000,000 sqm. This implies that only around half of the fall has occurred so far (right chart).

However, the floor area of sales will probably fall back to around past trough level, which means a fall from the recent 8,000,000+ sqm per month to around 5,000,000 sqm (left chart).

But if sales fall to 5,000,000 sqm per month and there is a large oversupply of vacant dwellings it implies that starts could fall below 5,000,000 per month. This is playing with numbers and I have no way of estimating accurately how much more downside there will be, but the outlook appears to be ominous.

There is a strong link between housing activity and GDP growth

In NZ residential building activity has on average been around 5% of total GDP/economic activity, but even with this relatively small share it has played a major part in driving economic cycles as discussed in past reports.

Chapter Two of the How the Economy Works booklet highlights the pivotal role of housing in economic cycles, while Chapter Three looks at how the upturns and downturns that start in the housing market filter around the economy to other sectors and industries.

In China residential building is reported to make up 10-12% of economic activity, making housing upturns and downturns of even greater importance to cycles in Chinese economic growth than is the case in NZ.

The left chart confirms the significant role housing plays in Chinese economic upturns and downturns.

The black line shows annual GDP growth (left scale), with growth slowing to just over 6% in the 2008-09 “hard landing”. In the March quarter GDP was up “only” 8.1% on a year ago, so Chinese economic growth has already slowed quite a bit.

But the fall in the sale of residential buildings points to more downside risk to annual GDP growth over the next two quarters. The red line shows the annual % change in the floor area of residential building sold (right scale), with the rolling three month average number of sales down 13% most recently on the same three months a year earlier.

The best fit is with sales leading GDP growth by four months, with the red line advanced or shifted to the right by four months.

Overall there is a good fit with a correlation of 0.84 compared to maximum possible positive correlation of 1.0 (i.e. it is a bit like getting an A in old school marking). However, housing isn’t the be all of GDP growth, with growth being quite a bit stronger than predicted by sales between late 2010 and late 2011.

But the prospect that annual GDP growth will slow more in the June quarter is supported by the NMI Business Conditions survey that also has a good track record at predicting the near-term outlook for annual GDP growth (right chart).

So the odds that growth will slow more in the near-term seem to be high, but these leading indicators are not yet predicting that annual growth will slow below 7% (i.e. a “hard landing” isn’t imminent).

However, if our speculation about how much residential building activity could fall is vaguely in the right ballpark then the downside risk to economic growth is much larger than currently predicted by the leading indicator charts below.

And there are some more warning signs for near-term Chinese economic growth prospects.

Capital is reported to have started to flee China while growth in bank lending is reported to be weak recently. Bloomberg reports that the Chinese car industry is heading into a crunch with oversupply and downside risk to production and prices.

Chinese steel production is reported to be at risk of falling, which would hurt thermal coal and iron ore. There were reports today that some Chinese buyers are deferring delivery of shipments or defaulting on bulk contracts for thermal coal and iron ore.

China has a debt problem although this probably won’t result in a banking crisis becauseof where the debt resides. Some of the massive property development projects, like a full scale replica of Manhattan near Beijing are reported to be struggling under mountains of debt much larger than suggested by official debt figures.

State governments are hugely reliant on income from property development that is tumbling and are at risk because they borrowed heavily to finance infrastructure and property development.

The Chinese authorities might pull a rabbit out of the hat and if they do the conspiracy theorists will be beating the drum about dubious Chinese economic data. We expect the authorities to re-stimulate economic growth, while there are still lots of positive growth stories going on in China (see below),. But a relatively short-lived “hard landing” appears to on the cards this year.

China is also at risk to developments in Europe, especially with the new French PM planning an “assault on Beijing”, but also possibly because of Germany’s growing link with Eastern Europe. The left chart shows how much weaker annual growth in Chinese exports and imports have been in recent months – abstracting from the huge monthly volatility – with China particularly reliant on European demand. The falls in business and consumer confidence surveys are also of concern (right chart).

There are many faces to Chinese growth story

I don’t pretend to be able to forecast Chinese economic growth with any degree of accuracy because it is a much more dynamic growth story than is the case in a developed country like NZ.

However, when there are major, short-term upturns or downturns in housing market activity these will generally swamp the other growth-drivers that don’t have such a large impact on near-term outcomes (i.e. I still think the risk of a “hard landing” in China is real this year). But when I review the other growth stories going on I can’t get bearish about Chinese growth prospects in general.

The following provides some insights in the myriad of things unfolding in China.

Strong growth in real incomes

In 2011, 24 provinces and municipalities raised minimum wages by an average of 22 percent, according to the Ministry of Human Resources and Social Security. Shanghai’s rose by 14 percent. Compared to consumer price inflation of just over 4% in 2011 this means large increases in real or purchasing price terms. This is helping fuel consumer spending although it is also undermining China’s comparative advantage of cheap labour.

China benefiting from the recycling of petro-dollars

Countries made wealthy by the high oil prices are reported to be buying up Chinese goods big time. “But, more importantly for the economy, they are buying the value-added products that Beijing wants its oriented factories to focus on - construction equipment, heavy infrastructure goods and telecom network equipment, for instance.”

A move into high-valued manufactured goods

China has effectively achieved a monopoly in the production of solar panels aided by government subsidies, which the US is responding to by imposing tariffs that aren’t high enough to restore the competitiveness of local producers, with three reported to have gone bankrupt last August. It is moving into the likes of high-end equipment manufacturing and biotechnology more generally. The Economist Intelligence Unit wrote an interesting article covering these and other issues recently.

The evolving face of innovation in China

McKinsey wrote a fascinating report titled “A CEO’s guide to innovation in China” that gives some understanding of the dynamics going on in China, with innovation being at the heart of economic growth.

Financial sector reforms

Reform in the financial sector could have a significant impact, especially in terms of funding for private SMEs that struggle on this front because the large banks focus on funding government-owned businesses.

“The shape of the private sector's role may be evident from a pilot scheme in Wenzhou, Zhejiang province that the State Council announced in March. This will permit the establishment of private financial-services companies, including village banks and rural financial houses, effectively legalising the region's substantial grey financing market. The government is also allowing smaller institutions more room to expand their lending activity. In April, for example, the authorities reduced reserve requirements for some smaller, county-level banks. The bigger banks, by contrast, are currently bumping up against prudential ceilings that limit the pace at which they can expand their loan books. The underlying goal of these and many other recent reforms in the banking sector - some of which are also being piloted in Wenzhou—is to improve the flow of capital to small and medium-sized enterprises (SMEs).”

Chinese consumers will be a major force in the future

China has surpassed the US as the world largest grocery market at US$972 bln in 2011 versus USS844 bln for the US, while the Chinese market is expected to grow a spectacular 51% by 2015 to US$1,470 bln.

A McKinsey report picks that the government will introduce a range of measures to fuel consumer spending this year (e.g. tax breaks/rebates, increased wages and rebates on the purchase of electronics and appliances), will offer incentives for manufacturers to move inland, will continue with pilots to drive rural land amalgamation and increased living standards for rural people, and will introduce reforms in the health system that include the construction of private hospitals.

Another McKinsey report provides some useful insights into how dramatically income levels are likely to change in China this decade, with the following excerpt from that report:

“At present, the great majority of the population consists of “value” consumers - those living in households with annual disposable incomes between US$6,000 and $16,000, just enough to cover basic needs.

“Mainstream” consumers, relatively well-to-do households with annual disposable income of between $16,000 and $34,000, form a very small group by comparison. China has fewer than 14 million such households, representing only 6 percent of the urban population.

This situation is changing. Because the wealth of so many consumers is rising so rapidly, many people in the value category will have joined the mainstream one by 2020.

Indeed, mainstream consumers will then account for 51 percent of the urban population. Their absolute level of wealth will remain quite low compared with that of consumers in developed countries. Yet this group, comprising 167 million households (close to 400 million people), will become the standard setters for consumption, capable of affording family cars and small luxury items.

Nevertheless, value consumers, whose ranks will fall to 36 percent of urban households in 2020, from 82 percent in 2010, will still represent an enormous market for cheaper products: 116 million households, or 307 million consumers.

Affluent consumers will remain an elite minority, making up only 6 percent of the population in 2020. (In the United States in 2010, more than half of the population earned at least $34,000.) But that 6 percent will translate into about 21 million affluent households, with 60 million consumers.”

Chinese consumer are impacting on the UK antique furniture market

The growing wealthy group of Chinese, while small compared to the Chinese population is still a large group in absolute terms and they are starting to have an impact on some niche markets, like the Japanese did before them. One example that was interesting was the impact on the UK antique furniture market where Chinese buyers were reported to be bidding up some prices dramatically based on a CNN story.

China is making friends with selected parts of the under-developed world

China is extending its reach all over the developing and under-developed world, with the recent USD$8n loan to South Sudan, where the prize is oil, being an example of the scale of this sort of activity. A BBC article on this makes for some interesting reading.

Foreign investment in China is moving inland, with major implications

The Economist Intelligence Unit has written a good article giving some insights into the changing face of foreign direct investment in China with it moving inland to take advantage of cheaper labour etc. (Link requires login.)

Growth in the Chinese service sector

Much of Chinese growth story in the last decade has been about bulk manufacturing. As covered above this is evolving into higher valued-added manufacturing. But possibly of even more ultimate importance is the move to promote the service sector. I read a great article about this last year but unfortunately I have lost the reference to it. But to put this in context, in a modern economy the services sector is dramatically larger than the manufacturing sector, which provides a basis for assessing relative growth prospects for the manufacturing versus services sectors in China over the next few decades.

We welcome your help to improve our coverage of this issue. Any examples or experiences to relate? Any links to other news, data or research to shed more light on this? Any insight or views on what might happen next or what should happen next? Any errors to correct?

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35 Comments

Hugh Hendry Predicts Crisis Will Spread to AsiaDan Collins from the China Money report
I enjoy the outbursts and rants from Hugh Hendry not to mention the wikipedia inspired quips on historical subjects which are often used now in the financial services field to give off an air of intellectual depth. But in the case of China, Henry has overstepped his experience and knowledge base.
Showing up in a country with a video camera does not make you an expert on said country.
He parrots the property bubble theory… but doesn’t realize 50% of homes in China have been paid for in cash, the other 50% have at least 30% down. The property market is now actually starting to get stronger. There have been 300 million residences built in China for a population of 1.3 billion people. Most Chinese are still living 4-6 in a dorm at a factory and there wages are rising rapidly.
We have spent the last 2 years in a market where the government has had to pass rules to STOP people from buying properties, you can no longer buy more than one property, despite all of these rules in the last 2 years, prices are flat.
China has $3 trillion in reserves in the rainy day fund and exports are not that big of a part in the economy has is perceived.
The crisis will come to Asia, but it will be Japan that gets hit, not China.http://www.thechinamoneyreport.com/2012/05/04/hugh-hendry-predicts-crisis-will-spread-to-asia/

good to hear from Rodney again, he's by far the best economist in NZ.In NZ residential building activity has on average been around 5% of total GDP/economic activity, but even with this relatively small share it has played a major part in driving economic cycles as discussed in past reports.
Exactly, and that's why I keep going on about planning reform to get construction happening.

Shouldn't NZ residential building activity be the result of economic cycles, not the driver?
or Ponzi scheme as in:
"Analyst Owen McShane quoted a 1960s report, on the relationship between house construction and employment, that concluded that every 1000 houses would generate a total of 40,000 contracts and jobs over 15 to 20 years. (3) He showed that reducing the residential construction rate from 26,000 a year to a no more than 16,000 a year, and probably much fewer, is cutting 400,000 contracts and jobs over 15 to 20 years. Is this the legacy that the Key-led government wants to leave?

Where does immigration fit into the Key government’s grand scheme? Net migration went from minus 6760 in 2001 to plus 34,580 in 2002, and up to plus 42,090 in 2003, the beginning of the boom. Since more people require more dwellings, the residential property sector keeps a close eye on net migration. Whether the Clark-Cullen government deliberately allowed the influx to pump up the economy or whether it was an administrative cock-up has never been discussed. There are quality migrants around the world who would give anything to be able to live in New Zealand. By world standards, New Zealand is thinly populated. Would it not be worthwhile to investigate a managed increase in immigration?"http://breakingviewsnz.blogspot.com/2010/10/mike-butler-english-banks-and-property.html

Kiwi you seem to have some direct experience in China maybe you can answer a question. I have read that the large deposits paid may actually be borrowed from second tier or underground lenders. I have also read that the likes of pawn shops have evolved essentially into finance companies to provide these loans. Do you have any knowledge of this?

Like most people I get many of my China insights by reading about China.I have read that the large deposits paid may actually be borrowed from second tier or underground lenders

If 50% of homes are paid for by cash, which is however borrowed from underground lenders, then that would make the Chinese system a complete farce.
An example of a farce, or farcism, would be JPMorgan, the largest bank in the world, backed by the Federal reserve, making most of its money through derivative trading. Many people would say that the current global financial system is a farce.As An Encore to Bailing Out the Big Banks, Government to Backstop Derivatives Clearinghouses … In the U.S. and Abroadhttp://www.washingtonsblog.com/2012/05/as-an-encore-to-bailing-out-the-big-banks-government-to-backstop-derivativees-clearinghouses-in-the-u-s-and-abroad.html
I first came across Dan Collins a few months ago(via internet surfing). I enjoy reading his articles and especially his you tube videos as he does a good job of demolishing pre conceived ideas about China. I learn a lot from him.
China does not practise farcism, it practises an interesting mixture of communism and free market capitalism.

Steve Keen is a great guy."not to mention a jumped up arrogant know-it-all little Aussie git "
I had a good answer to this quote but in the end decided not to type it as it was just going to lead to a meaningless tirade.

Chen Zhiwu, a professor of finance at Yale School of Management, said Wednesday that chances are slim for China's economy to make a hard landing in the next 12 months as no big problems have been detected in its banking system."There is only a 5 percent probability in the coming 12 months that China's economy will have a hard landing," Chen said in a recent interview with Xinhua at an event organized by the Chinese Finance Association in New York.In response to the projection by economists and hedge fund managers that China's banking sector will suffer a crisis soon, Chen said that such concerns are largely groundless."In China, the banking industry is positively correlated with the government's fiscal situation. As long as China' s fiscal situation remains sound, the bank sector will be fine," said the professor.http://www.globaltimes.cn/NEWS/tabid/99/ID/711320/Financial-expert-says-Chinas-economy-less-likely-to-make-hard-landing-in-12-months.aspx

I don't believe everything I read on the internet. My first post from Dan Collins I think raises some interesting points. Those points are quite relevant to a housing market. Why is it that the China doomster articles never raise those points?

Same reason Zero hedge would have you believe America is dead n buried awaiting it's slide into third world poverty..... come to think o fit it's not just zero hedge.......it sells Kiwi......doom sells.....you got to read these things with an eye that the world keeps turning and life goes on....and on ..and on ...till it doesn't.

I don't think the point you are making is logical.
Where are are all the numbers that the China doomsters quote coming from? Are they coming from the Chinese Government? If they are making up the numbers, why would they release negative numbers.
The fact that China is releasing negative numbers supports the theory that they might be telling the truth.
Here is a thought. I wonder if China being the second largest economy in the world is just an illusion.
The problem is that the China doomsters are not looking at the full picture and are just cherry picking some bad data.

Kiwi when it comes to .... just cherry picking some bad data........you're pretty good at it yourself,when the mood and opportunity presents itself.
I'm sure the Chinese economy is robust enough to withstand a few doomsayers...although I'm not sure the Party is robust enough to ignore the niggle.....
But hey ,never let ideology get in the way of a good logic eh...?

Surprisingly enough , both of NZ's major trading partners are not in a recession ..... China & Oz possess two of the best run economies ( admittedly out of a pretty toxic bunch ) in the world today ....

... which bodes well for the Kiwi economy ...

And lest we forget , " recession " does not mean zero economic activity , just zero overall growth ..... folks in the UK are still buying their beloved fish'n'chips , skin-heads are still trotting off to the footy or the cricket , financial transactions are still plugging along ...... life goes on ...

Ladies and Gentlemen, Comrades,…Friends. Thank you rescheduling your busy work duties and reporting back to Beijing. The year 2017 saw unprecedented market turmoil. The NATO war in Iran has not gone well for West. They are still bogged down in Iraq, Afghanistan, and Libya. Oil has recently passed $300 a barrel on international markets. We must immediately discuss the recent collapse of the U.S. Dollar and the global financial system.

The Americans have come to us for a new “Grand Bargin” on further debt financing. Our own Central Bank and audit agencies have been warning us about this issue for almost ten years now and it appears the worst has finally been realized. I will now turn over the meeting to Mr. Zhu.

Mr. Zhu Lao Ban – Director of China Central Bank

Comrades…. We have not been totally blind in foreseeing these events. Since 2011 we have greatly cut back our U.S treasury buying. We owned over $3 trillion of foreign currency reserves back in 2011 and due to RMB currency reform we were able to limit our annual purchase of Treasury Bills to a growth rate of only 10%. With that being said, however, our foreign currency reserves this year have swelled to over $7 Trillion USD. Half of this amount or $3.5 Trillion is now in USD and is no longer accepted for international transactions including oil!

Mr. Wang Bing-Chairman of Da Gong, China’s ratings agency

The recent so called QE 7 and New Deal 5 has appeared to fail! We downgraded the U.S. debt almost ten years ago…..right after their former Central Banker Alan Greenspan claimed the U.S. could never default as they could just print the money! We at Da Gong will not accept responsibility for this mistake on acquiring so many U.S. dollars! We are not responsible for this and acquit ourselves of any responsibility!

Comments from Mr. Zhou Rui Zhun-Economic Planning Commission DirectorGentleman…we are all in this boat together. No need for shouting. As our Dear Leader Chairman Mao said…we will cross the river by feeling the stones.Our department has created a plan. We will convert our U.S. Treasury bills into USD cash and purchase shares in American multinationals through our Sovereign wealth fund. This is not a new plan and was started over ten years ago but due to recent events the acceleration of buying hard assets must increase immediately. Brazil, India, and Russia have already started selling back Treasury Bills to the Federal Reserve and converting to hard assets, however, with gold now hovering at $18,000/oz there is not much they can buy.We must move posthaste and not be the last one to convert our USD treasuries. We must beat Russia, Brazil, Korea, Indonesia and others in converting our debt instruments holdings into real assets.We do not expect political interference in the purchasing of the U.S. multinationals.Similar to the Soviet collapse in the early 1990’s the U.S. is desperate for foreign direct investment. Not unlike a game of weiqi, they are surrounded on the board and therefore we can negotiate from a position of strength. They rely on us for financing and their daily manufactured products. Without us, Wal-Mart shelves go empty and they have no financing for their government services or for their daily consumer purchases.http://www.financialsense.com/contributors/dan-collins/2011/08/24/the-great-chinese-shopping-list-circa-2018

Yes thanks again for the cherries Comrade....! good "comedy" requires good commie timing.!
You might want to take another squint at that gold price, think it got away on them a mite...
It reads like a War plan full of your usual commie propoganda ending with chorus of "If I ruled the world."
Still I guess the hordes happy to overpopulate will be looking for new fields to infest and all off the backs of their poverty sticken oppressed workers.......
Old China saying..".life's cheap..! so's everything else we do."
Keep praying for that glorious day Qui Wi.

It reads like a War plan full of your usual commie propoganda ending with chorus of "If I ruled the world."
"Dan Collins has lived in China for 15 years. He has 15 years experience as a private
investor in Mainland China. He reads Mandarin Chinese fluently and has a background
in engineering and manufacturing with multinational companies in China. He currently
advises some of the world’s largest hedge funds on China related companies."
Dan Collins isnt a commie.

Its just the Authors imagination running riot. Its intended to make people think as many are just dismissing China as an illusion.

dismissing China as an illusion......?
See I can cherry pick too...!!...that would be some illusion.....I mean all 1319175333 er-4-5-6-7-8 shit can't keep up....nope, even too tall an order for Copperfield.
Dan Collins might not be a commie or a commie sympathiser but he sure as hell talks the Party line......Would you like some comment from Mainland Chinese Economics people who disagee with Dan...there not hard to find .....but again any comment from them is ( according to the Party) designed to destabilise the happiness existing amoungst the general population.
The population increased by 130 in the time it took to comment........that's gonna help..!